Economics Of A Hurricane

Today we will talk about the economics of this hurricane season, and then discuss why it might not be a good idea to buy a house.

Now of you read Econo-Girl's blog, and you should, not all of this will be new to you. But read on anyway, at least some of it will be new.

First let us examine this rabid housing market. EVERYONE thinks that they are going to make a fourtune in real estate. After all, it is super easy! Just do whatever it takes to buy a property - any property - and watch it grow in value by 20% per year! Then sell the property and keep the profits. You can quit your job! You can turn $5000 and a good credit history into a $1,000,000 in just a year or two.

But there is a problem. A big problem. Speculators, the uneducated who watch those late night TV infomercials featuring scantly clad chicks, fancy cars, and huge mansions, have flooded the market with artificial demand. They buy buy buy, thinking they will sell sell sell later for huge profits. The result is that housing starts are "up", which drives up prices - and higher prices encourage devlopers to build more.

As if it were that easy to be rich. And if it were, do you think that the guy who "discovered" this would tell you? Would you want to sell maps to your gold mine? Yet people still think that the "secret" is something that only belongs to them.

And that is not all. The demand for building materials shoots up, which in the end makes the price of the building go up. Everything costs the construction compant more - PVC pipe, fiberglass insulation, copper pipe, cement, wood, even nails. What costs the devloper more ends up costing the buyer even more, once the profit margin is factored in.

But people keep buying, thinking that they will be in debt now but in 5 or so years their home will be worth so much more that they will be able to either sell it for a windfall OR use some of that equity built up to get a better rate from the bank. And it would all work, except for one pesky little fact. At this point, in many places, the median income can not buy the median priced house. House prices can not possibly continue to grow at the hyper inflated rate people think it will unless WAGES also increase by the same rate.

But if wages go up by that rate, inflation will skyrocket. A loaf of bread would end up costing $20, and people will still not be able to afford to buy houses.

What does the hurricanes have to do with this? It is all about demand. There will be a whole lot of unexpected demand for building materials. For one, just because of South Floirda and the two hurricanes, thousands of people need new roof tile. The wait list is at least one year. And that is assuming that the supply is available - the one year is just due to labor shortage.

Almost ALL of New Orleans has to be rebuilt. This will place even more demand on building materials. Then there are the projects that were planned even before all the hurricanes and stuff. In short, the unexpected demand will cause unexpected price increases which will mean unexpected rises in housing costs.

In Miami, there are a lot of high rise projects under construction. Some of these projects are already pre-sold out. The buyers are almost all speculators, some of who have bought multiple units. But as construction materials go up in cost the builders are going to ask for more. The buyers will probably sue to back out of the contract, or to force the builder to sell at the contract price. The builder, being in this game to make money, will have to cut costs somewhere (like in labor for example) or declare themselvs bankrupt, leaving a 1/2 build condo highrise.

But even if the projects are completed, prices will still be pushed up, leaving the question of who will the buyer be? Who will the speculator sell to? Can you afford a $500,000 condo? I can't.

What could end up happening is a glut of unsold units, as buyers back out of the condos due to the price increase. A glut of unsold units will tend to drive prices down. People who buy with the idea of short term profit will end up loosing. There will be foreclosures. Banks will start to loose money. Interest rates will rise as banks try to recover losses. Intrest rate hikes will put even more pressure to lower the price sellers can get.

Long term planners will survive all this. People who bought 10 years ago will never loose their money, unless prices fall to some unreasonable level (houses in major markets will not loose 50% of their value!). But if prices fall even 5%, the interest only loan people will be screwed.

This would be the bubble pop we have all heard so much about.

Our economy depends on waste and destruction to thrive. Why don't they build cars to last 50 years? Simple! They want you to buy a new car every 5 - 8 years (or even sooner!). If people only bought one car and drove it for their lifetime, what would Toyota and Ford sell? Toasters? Waffle makers? This is another reason why war makes so much money. Stuff blown up means it has to be rebuilt - and this means jobs and the need to buy new stuff. Also people need to be hired to build the bombs and stuff. And when people die, it means they do not have to be paid anymore or given benefits. Another slot opens up for some poor person to get a job.

The hurricanes of the 2005 season will help pop the housing bubble. They will not be the only reason, but the upward pressure in building material costs will not help matters.

But even if all this is wrong, one thing is not. Prices can not possibly keep climbing at the rate people expect them to. Something has to give.

One more thing. People ARE going to find that their insurance settlement check might not be enough. Estimates the insurance companies will get are based on current costs - NOT the future costs once the full demand for S tile hits the market.

Already, roofers in South Florida are not taking any more work orders. Tons of blue tarps are visible on homes. Adjustors will stop by, and cut claim checks based on the damage they see at that time. Homeowners who are on a 1 year waiting list will face the reality of a blue tarp roof for the next hurricane season. They will also have to worry about more roof damage due to the elements over that one year.

Insurance premiums will go up, which could lower prices. If the value of the dollar continues to fall, prices for goods and services will go up. The rise in prices could scare the Federal Reserve into seeing inflation triggering interest rate hikes. Rate hikes make borrowing more expensive, and making borrowing more expensive tends to lower the price of homes.

If you think that any of this is not true, just ask yourself this. Who is my buyer. Is your buyer someone who can afford a house payment of $2,000 per month? Well guess what - if premiums go up will your buyer suddenly be able to produce more money? If not, where will the money for insurance come from? If you guessed out of the cost of the house mortgage - you guessed right. Your buyer will still have $2,000 per month - it is just that the insurance companies and bank will get more of that $2k per month - leaving the seller with less.

All these factors lead me to conclude the following. Speculation short term real estate buying is a bad idea right now. Long term buyers will be OK, but they could realize some loss in the short term. Interest only loan buyers will get screwed the most. If you bought a home with the plan to live in it, you will be fine as long as you are NOT holding an interest only loan.

If you do not own a home yet, hang on. A buyers market could be closer than anyone thinks. Thanks in part to Katrina, Rita, and Wilma.